The effects of borrower and lender reputations in credit markets

Abstract

Mainstream neoclassical economics predicts that financial markets will operate in a frictionless manner, with transactions occurring directly between savers and borrowers. However, in reality there exists a variety of informational imperfections and incentive problems which disrupt financial markets. In this thesis, I explore how borrowers' and lenders' concerns about their reputations can mitigate these incentive problems.

In chapters one and two of the thesis, I formulate a new theory of financial intermediation and explain the general structure of credit markets. Borrowers without established credit histories have incentives to repudiate their debt obligations, and are therefore unable to issue debt directly. Banks exist in order to provide finance for this class of borrowers. Banks can curtail borrowers' incentives to default on debt by building a reputation for liquidating defaulters. However, over time, borrowers' concerns about reputation improve their incentives, such that they are able to issue debt directly.

In chapter three of the thesis, I analyze the dynamics of firms' credit ratings. Borrowers with short credit histories face the poorest incentives, and (depending on initial conditions) for these borrowers debt repayment can only be enforced by the threat of liquidation. However, over time if borrowers repay debt on all dates, they will establish a good credit history. This may improve their incentives, such that they will repay debt because they are concerned about their reputations for being a good credit risk, even if they face no threat of liquidation if they do default.

More information

Identifiers

Catalogue record

Export record

ASCII CitationAtomBibTeXData Cite XMLDublin CoreDublin CoreEP3 XMLEndNoteHTML CitationHTML CitationHTML ListJSONMETSMODSMPEG-21 DIDLOpenURL ContextObjectOpenURL ContextObject in SpanRDF+N-TriplesRDF+N3RDF+XMLRIOXX2 XMLReferReference ManagerSimple Metadata